Overseeing Controlling Shareholders: Do Independent Directors Constrain Tunneling in Taiwan?

Yu-Hsin Lin, Stanford Law School

Abstract

One of the most important challenges to modern corporate governance is to constrain controlling shareholder from tunneling corporate resources at a cost to non-controlling shareholders. Related party transactions (RPTs) have been proved by empirical studies as a major channel for tunneling. OECD has also stressed the challenge of abusive RPTs to Asian corporate governance. This paper serves an initial attempt to empirically assess the extent to which independent directors in Taiwan constrain tunneling. Taiwan serves as an appropriate jurisdiction for research in that private benefits agency problem is prevalent among Taiwanese public companies and that independent directors were newly introduced to Taiwan’s corporate boards, which traditionally follow dual-board system.

Nevertheless, the results are daunting. RPTs among Taiwanese public companies are common but rarely monitored by the board. Interview results further confirm this finding. Overall, independent directors’ oversight on RPTs or tunneling is generally weak. In addition, most RPTs that are sent for board review are explicitly required by the law to do so. The law plays a decisive role in constraining RPTs. Self-regulation by firms of self-dealing transactions is rare. The value of independent directors in reconciling conflicts of interest matters has not been recognized by Taiwanese public companies. The existence of statutory supervisor, which is the traditional corporate monitors under dual-board system, further weakens the monitoring function of independent directors. Furthermore, there exists tremendous information asymmetry between independent directors and controlling shareholders, in particular, the shareholder managers. The information needed to uncover abusive RPTs is among the hardest to obtain.